Volcker Rule Attacked as Lawmakers Seek Fund Loophole

June 23 (Bloomberg) -- Senate negotiators will probably
offer changes today to the financial overhaul bill to soften the
Volcker rule by allowing banks to sponsor hedge funds and invest
their own money, within limits, alongside that of clients.

The compromise, designed to win the support of at least
three Republican senators, comes as lawmakers struggle to reach
agreement on financial reform this week. To appease Democrats in
favor of stronger regulation, negotiators also plan to make it
harder for regulators to undermine the rule, according to
lobbyists and congressional aides involved in the discussions.

“There’s pressure from both sides to toughen and to soften
the Volcker rule, and politics is the art of compromise,” said
Lawrence Kaplan, an attorney at Paul Hastings Janofsky & Walker
LLP in Washington. “Running a hedge fund wasn’t the problem,
and this way they’re saying all of it wasn’t bad, you just can’t
use too much of your capital on it. Politics is the art of
saying ‘we made it tougher’ without making it really tough.”

As approved by the Senate last month, the Volcker rule,
named after former Federal Reserve Chairman Paul Volcker, would
ban U.S. banks from trading with their own capital and running
hedge funds. It has been the target of last-minute lobbying by
banks including Bank of New York Mellon Corp. and State Street
Corp. The two banks are concerned that their asset-management
activities would be curtailed, since many of their funds could
be considered hedge funds although they don’t engage in risky
bets, people familiar with the banks’ arguments said.

‘Wide Net’

Scott Brown, the Massachusetts senator who was among four
Republicans voting in favor of the Senate bill, is pushing for
changes that would benefit Boston-based State Street and BNY
Mellon, those people say. The efforts to exempt the custodian
banks and their asset-management units would also help Goldman
Sachs Group Inc. and JPMorgan Chase & Co., the people say.

“The proposed Volcker rule casts an unnecessarily wide
net,” BNY Mellon said in an e-mailed statement. “It would
prohibit traditional activities that our clients expect from us
and create a competitive disadvantage relative to other less
regulated asset managers.”

President Barack Obama introduced the rule in January with
Volcker standing beside him. Because it was after the House had
already passed its version of financial reform, the rule was
included in the Senate package only, guided through the chamber
by Senate Banking Committee Chairman Christopher Dodd, a
Connecticut Democrat.

Levin, Merkley

Senators Carl Levin of Michigan and Jeff Merkley of Oregon,
also Democrats, proposed an amendment that would eliminate some
wiggle room for regulators to soften the ban. While the
amendment didn’t make it into the Senate bill, parts of it will
be included in the changes Senate negotiators offer today, Dodd
told reporters yesterday.

House negotiators yesterday released their offer to their
Senate counterparts that didn’t include changes to the Volcker
language in the bill.

Bank lobbyists are also pushing to let firms invest a
limited amount -- 2 percent to 5 percent of their capital -- in
hedge funds or private-equity funds. Levin and Merkley oppose
this so-called de minimis investment option, according to the
people familiar with the negotiations.

The current version of the Volcker rule bans “sponsoring”
of hedge funds and private-equity funds. Sponsoring is defined
as “serving as a general partner, managing member or trustee.”
Banks cannot appoint a majority of a fund’s directors or
managers and cannot give their name to it.

“I hope and anticipate that Congress will negotiate a
strong bill,” Volcker said in an e-mailed message, declining to
comment on the ongoing talks and prospects for the rule.

Citigroup, JPMorgan

Even in its current form, the Volcker rule could be
interpreted as allowing banks to keep running their hedge funds
as long as they divest their stakes, according to some lobbyists
and congressional staffers. That understanding has led some
banks to expand their businesses. Citigroup Inc. plans to raise
more than $3 billion for its private-equity and hedge funds,
people with direct knowledge of the plan said last week.

JPMorgan, the second-largest U.S. bank by assets, operates
the world’s biggest hedge fund, according to the 2009 rankings
of AR magazine, an industry trade publication. The New York-based firm’s hedge funds had $50 billion of assets under
management as of Jan. 1, the magazine reported in March. Goldman
Sachs’s hedge funds, which ranked ninth on the list, had $21
billion.